Even though they are not completely clear as of now, the regulations require the corporate veil to be pierced to identify natural persons owning companies in order to close the loop on combating money laundering and terror financing, say Surbhi Kejriwal and Aakash Dasgupta.ETCFO | Updated: August 03, 2018, 16:40 IST

The new Significant Beneficial Owners' Rules in India aim to pierce the corporate veil that protects beneficial owners so far. The impenetrability of the corporate veil has been the underlying principles and philosophy for the growth of corporate structures. File photo. REUTERS/Andrew Kelly Taking a stride towards implementing the recommendations of the Financial Action Task Force (FATF) for enhancing transparency of legal persons and arrangements, the Companies (Significant Beneficial Owners) Rules, 2018 (Rules) were notified on 13 June 2018.

While the new section 90 of the Companies Act, 2013 dealing with significant beneficial owners was notified in February this year, the Rules provided the ammunition to trigger the reporting and other requirements under the section.

A plain reading of the Rules along with the section implies that any natural person holding beneficial interest of more than 10% or exercising significant influence or control over an Indian company through certain intermediate entities like companies, trusts, partnerships etc, is required to disclose the nature of his interest in the company.

The mandate of the Rules is to “look through” the entire maze of intermediate entities and identify the ultimate individual owners of a company.

The Rules along with section 90 signal a paradigm shift in assessing beneficial ownership of an Indian company, in that it does not stop at any level and prescribes that the ownership (including those of and by blue chip listed companies) must be traced all the way up to the individual, notwithstanding that the individual may not directly own any shares in the company.

The objective of these provisions Rules is to identify those individuals who ultimately hold significant beneficial ownership, whether through layers of entities, individually or collectively. Where a natural person cannot be identified owing to widely dispersed ownership patterns, a senior managing official would be regarded as the ultimate beneficial owner.

The first declaration by the natural person to the company should be made by September 11, 2018 and the second declaration by the company to the Registrar of Companies should be made within 30 days of receiving the first declaration. These disclosures should be maintained in the register of holders of significant beneficial interest and made available for inspection to every member of the company.

Significantly, the Rules also place onus on companies to seek information and send notices to persons it knows or has reason to believe to be a significant beneficial owner. For individuals, the penalty prescribed for non-compliance ranges from Rupees one to ten lakhs. A wilful suppression of material information or submission of false information by a person makes him liable under fraud.

The Rules have however thrown up significant interpretational challenges. For instance, the Rules do not address foreign ownership structures in Indian entities (although the section itself includes non-residents).

Therefore, it remains unclear if one would have to look through off-shore corporate structures and identify individuals, for determining significant beneficial ownership. An inclusive interpretation would necessitate disclosures not only for subsidiaries or group companies of MNCs but also for portfolio companies of foreign private equity funds.

While the Rules do provide an express exemption for pooled investment vehicles or investment funds such as mutual funds, alternative investment funds, real estate investment funds and infrastructure investment trusts regulated under the Securities and Exchange Board of India (SEBI) Act, it is unclear whether such exemptions would cover off-shore private equity funds who may otherwise not be regulated by SEBI.

No other exemptions to listed companies or wholly owned subsidiaries have been provided. Further, the disclosures have to be made for each company, thereby mandating several disclosures for a single group of companies.

There are also certain matters which warrant further clarity, for example do the exemptions extend to off-shore private equity funds? Would Foreign Portfolio Investors (who have already registered with SEBI) be exempt?

Whether and under what circumstances would shares held by relatives of an individual be considered to be beneficially held by that individual? Whether holding through Limited Liability Partnerships (LLPs) need to be considered in determination of significant beneficial ownership given that no express guidance is provided with respect to holding through an LLP?

Moreover, disclosing individuals would also need to assess if the beneficial ownership disclosures would impact their tax filings.

As aforesaid, the intention of the legislation is clear, in that it seeks to identify individuals who are significant beneficial owners. Individuals cannot hide behind a web of complicated corporate structures anymore.

The ramifications of these disclosures for India Inc is significant and the potency of these regulations cannot be undermined.

While some may perceive these regulations as being at odds with the principles of separate legal identity of companies, the regulations require the corporate veil to be pierced to identify natural persons so that additional checks and balances are introduced to, inter alia, combat money laundering and terrorist financing. Having said so, the current drafting of the Rules warrants much needed clarity.

About the authors: Surbhi Kejriwal (Partner) and Aakash Dasgupta (Senior Associate) are lawyers with the corporate and M&A practice at Khaitan & Co. The contents of this document do not necessarily reflect the views or position of Khaitan & Co, but remain solely those of the authors.

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